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Blockchain plays can create new rivals to Amazon and eBay

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While it seems Amazon and eBay's dominance are peaking, a new generation of technology that could fuel competition is brewing.

The e-commerce marketplaces that developed in the web 1.0 and web 2.0 eras are facing increased competition from global e-commerce players, mobile commerce plays (such as Instagram’s upcoming commerce application) and decentralized, blockchain-powered alternatives that use tokens to keep the incentives in networks aligned and do away with the extraction imperative.

Far away from the internet’s original promise of unfettered peer-to-peer exchange, online commerce is today dominated by a small handful of middlemen marketplaces that charge outsize commissions for access to a consolidated buyer pool.
What’s more, the dominance of these middlemen is growing. In the U.S., for example, Amazon represents 49 percent of all U.S. commerce sales — up from 44 percent just a year ago.

This number continues to grow because of the power of network effects. In two-sided marketplaces like Amazon and eBay, network effects are mutually reinforcing. As the number of buyers increases, the incentive for sellers to join goes up, which in turn increases the availability of goods to attract buyers, and so the cycle continues.

This pattern is clearly manifested in the Amazon marketplace. Approximately 68 percent of retail sales on Amazon come from third-party sellers — a number that is expected to continue to grow. Internationally, third-party sales are growing 50 percent year over year.

But a peek into the Amazon Seller Forums shows deep and growing discontent among third-party sellers. The first concern is that growing fees are cutting into margins. The second is that, in many categories, Amazon is competing directly with third-party sellers through private label offerings. Indeed, some 40 percent of Amazon sellers list “competition from Amazon” as their top concern. Overall, the net effect is that only the largest sellers are able to profitably use the platform.

When networks begin, the companies that own and maintain the networks have the same incentives as all of the users: to grow it. Because the network becomes more valuable to everyone the more people there are, everyone works together to grow it. From a business perspective, this often means networks allocate additional financial incentives like reduced costs, free services or consumer incentives to grow the network.

At some point, however, the network grows so large that a) the rate of user growth starts to slow down, and b) it becomes extremely costly for users to switch to different competing networks — assuming they exist.

Due to this, networks face what I call the extraction imperative: the imperative of every network effects business to expand how much money and/or data it extracts from each individual user. As the extraction imperative kicks in, the incentives of network owners and network users begin to diverge.

This is the state Amazon finds itself in now. In Amazon’s case, the extraction imperative is being manifested as growing transaction fees that squeeze third-party sellers and ultimately raise prices for consumers. The growing cost of internal advertising during events like Prime Day and even in the cost of Prime itself only compounds the issue

In a recent analysis of network effects businesses, we found that e-commerce marketplace networks like Amazon are more vulnerable to disruption than other network effects businesses such as advertising model businesses or mobile application ecosystems. There are many reasons for this, but the core factors center around price and the ease of creating adoptable alternatives. At the end of the day, buyers are still extremely price sensitive, still do half of their online shopping at retailers besides Amazon and will only bear so much increase in cost before they look elsewhere.

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